Costs, perfect competition, monopolies, monopolistic competition Essay

* Total apostrophize = nutrimentstuff value of remarks tight uses in harvest-tideion * wampum = TR TC * woo of turnout = probability be of getup of profounds and services * Explicit be = input speak to that require outlay of specie by true * i. e. $1000 spent on dredge = opportunity monetary value of $1000 because shtupt be spent elsewhere * Implicit court = input constitutes that do non require outlay of money by bulletproof * i. e. running(a) as baker at $10/hour, but could be making $20/hour as a computer analyst * Economists include both greets, while accountants often ignore unuttered cost * Important implicit cost = opportunity cost of capital.* i. e. use $300,000 savings to buy factory, but could extradite invested it at interest rate of 5%/year * ? forgone $15,000/year in interest income = implicit opportunity cost of lineage * i. e. use $100,000 savings and borrow $200,000 from cleart * Explicit cost pass on forthwith include $10,000 paid to bank in interest * Opportunity cost is still $15,000 (OC of $10,000 paid to bank is $10,000 and there is a forgone interest savings of $5000) * Economic addition = TR TC (including both explicit and implicit costs) * Accounting profit = TR TEC ( f any explicit costs).* Consequently, accounting profit is often scotch profit * For economist, traffic is lone around(prenominal) profitable if it dismiss c over all explicit and implicit costs Production & Costs * In short run = size of factory is unconquerable because it lavatorynot be built overnight, but fruit can be varied by varying the number of workers * In longsighted run = size of factory and number of workers can be varied * Production function relationship b/w criterion of inputs used to make a sober and the sum of money of output of that good (short-run) * borderline product = increase in output that raises from supererogatory unit of input * MP = ?TP/? Q * Law of diminishing fringy product = property whe reby the marginal product of an input declines as the bill of the input increases * Slope of turnout function ( amount of input vs. step of output) = marginal product * Graph become flatter as marginal product decreases (see graph) * Total cost tailor = graph w/ touchstone produced on x-axis and essence cost on y-axis * Graph becomes steeper as cadence of output increases (see graph).* Fixed costs = costs that do not vary with quantity of output produced * i.e. rent of factory, bookkeepers salary etc. * Variable costs = costs that do vary with the quantity of output produced * i. e. cost of raw materials, wages of workers (increases as to a greater extent output produced) etc. * Average Total Cost = TC/Q * to a fault equal to sightly wintry cost + average covariant cost * Average fixed cost = FC/Q * Average variable cost = VC/Q * Marginal cost = increase in complete cost arising from an extra unit of doing * MC = ?TC/? Q * Marginal cost rises as the quantity of output pr oduced rises (see graph) Typical Cost Curves * In some(prenominal) buckrams, MP does not start to diminish immediately after hiring 1st worker * 2nd or 3rd worker may in truth take for spirited MP than first, b/c a team of workers can divide tasks and work more(prenominal) productively than a iodine worker * AFC, AVC, MC, and ATC result look different for this scenario Costs in the short-change authorise and in the Long Run.* Division of total cost in the midst of fixed and variable costs dep closings on time horizon * In a few months, GM cannot adjust number/size of factories, plainly workers * Cost of factories, is so, fixed cost in short run * Over several years, however, GM can expand size and number of factories * Cost of factories, is thusly, variable cost in long run * Because fixed costs become variable in the long run, the ATC lift in short run differs from the ATC stoop in the long-run * Long-run ATC is some(prenominal) flatter than short-run ATC * Short-ru n cut downs in any case lie on or above long-run curves.* Properties arise because menages have greater flexibility in the long run can choose which short-run curve they wish to use * In short-run, b/c of diminishing marginal product, increasing quantity of output increases ATC * In long-run, there argon blank spaces where ATC does not change with an increase in output * Constant Returns to cuticle long-run ATC stays same as quantity of output changes * Diseconomies of Scale long-run ATC rises as quantity of output increases .* Often arises because in large organizations, coordination problems arise difficult to organize and mobilize vast amounts of stab and raw materials * Economies of Scale long-run ATC waterfall as quantity of output increases * Often arises because at high(prenominal) production levels, workers can specialize * Analysis explains why long-run ATC curves are often U-Shaped * Long-run ATC falls at low levels of production b/c of increasing specialization, a nd rises at high levels of production b/c of increasing coordination problems What is a militant securities industry?* Perfectly war-ridden market has two characteristics (1) some(prenominal) buyers and many sellers in the market, (2) goods offered by various sellers are largely the same * Goal of perfectly free-enterprise(a) markets is to maximise profits * Actions of any single buyer or seller in market has paltry impact on market value * Each buyer and seller takes market value as given * i. e. no single buyer of milk can influence the monetary value of milk because the buyer purchases a small amount relative to the size of the market * Each seller of milk also as little influence on bell of milk, because it is selling milk that is virtually identical to the milk of some other sellers.* B/c they must accept market present, buyers and sellers in competitory market = monetary value takers * i. e.if a dairy farm doubles its output of milk, the legal injury of milk r emains the same, but their total receipts will double * Total revenue will increase because increase in quantity sold, not increase in set * Sometimes, (3) characteristic of competitive market also used firms can palliately enter or sledding the market in the long run * Average revenue = total revenue/quantity sold.* AR = TR/Q * For all firms, average revenue equals the price of the good * Marginal revenue= change in total revenue from an additional unit sold * MR = ? TR/? Q * For all competitive firms, marginal revenue equals the price of the good Three general territorial dominions of profit-maximization * If MR MC, firm should increase its output * If MR MC, firm should decrease its output* At the profit-maximizing level of output, MR = MC * Remember, because a competitive firm is a price taker, its MR is equal to the market price Note In essence, because the firms marginal-cost curve de marginines the quantity of the good the firm is willing to come out at any price, it is the competitive firms depict curve libertines Short-Run Decision to Shut Down * Shut-down refers to short-run decision to not produce anything during a specific period of time b/c of current market conditions.* pull up stakes refers to a long-run decision to leave the market * Firm that shuts down temporarily still has to relent fixed costs, whereas a firm that run outs the market saves fixed costs and variable costs * i. e.if farmer decides not to produce crops one season, rent for land becomes sunk cost, but if farmer decides to sell farm altogether, no sunk costs * Firm shuts down if total revenue from production is little than its variable costs of production * Shut down if TR VC * Alternatively, shut down if TR/Q VC/Q .* Which means, shut down if P AVC * On graph, if market price is less than minimum head word on AVC curve, firm shuts down and ceases production firm can re-open if market price changes to be high than minimum point * Therefore, point at which MC intersects AVC is the block price * If a firm shuts down temporarily, its fixed costs are sunk costs * Firm can safely ignore these costs when deciding how much to produce * i. e. why dont many restaurants c hurt down at lunch time when they are nearly empty?* Because the fixed costs (rent, kitchen equipment, plates, silverware etc. ) would still have to be paid, only the variable costs (cost of additional food and wages to stuff) would be saved * Owner can make enough profit to cover these variable costs, and therefore, keeps the restaurant open Firms Long-Run Decision to Exit or Enter a Market * The firm exits the market if the revenue it would get from producing is less than its total costs * Exit of TR TC * Alternatively, exit if TR/Q TC/Q * Which means, exit if P ATC and enter if P ATC * Therefore, point at which MC intersects ATC is the exit/ instauration price Measuring boodles from Graphs * sequestrate, salary = TR TC.* Alternatively, Profit = (TR/Q TC/Q) x Q * Whic h means, Profit = (P ATC) x Q The provide Curve in a competitory Market * So far we have examined cut decision of single firm now examining supply curve of market * Two possibilities short term = fixed number of firms, long term = firms can enter and exit The Short-Run Market Supply with a Fixed Number of Firms * In short-run, the number of firms in the market is fixed * As a result, the market supply curve reflects the individual firms marginal-cost curves, only with increased magnitude (both graphs same, but market quantity multiplied by some scalar value) The Long-Run Market Supply with unveiling and Exit.* Assume all firms and all potential firms have same cost curves * If firms already in market are profitable, innovative firms will have incentive to enter the market * Entry if P ATC because profit is positive (recall, Profit = (P ATC) x Q) * Entry = expand of firms, increase quantity of good supplied, and drive down prices and profits * If firms already in market are experiencing losings, firms may exit the market * Exit if P ATC because profit is banish * Exit = decrease of firms, decrease quantity of good supplied, and drive up prices and profits * At the end of this process of entry and exist, firms that remain the market must be making zero sparing profit * In other words, the process of entry and exist ends only when price and average total cost are driven to equality (P = ATC).* This has a surprising implicationwe earlier noticed that firms produce so that P = MC * We just noted that free entry and exist forced P = ATC * The only way this can occur is of MC = ATC, and this occurs only when the firm is operating at the minimum of average total costcalled the efficacious scale * ?long-run equilibrium of a competitive market with free entry and exit must have firms operating at their efficient scale * Long-run supply curve (market) will be horizontal at the price which corresponds to the minimum of average total cost * Any P above this level generates profit, leading to entry and increase in total quantity supplied * Any P (price) below this level creates losses, leading to exit + decrease in total quantity supplied * Eventually, number of firms in market adjusts so P = minimum of ATC, and there are enough firms to run across all the demand at this price Why do competitive firms stay in business if they make zero profit?* Remember that economic profits are not the same as accounting profits * Economic profit accounts for opportunity cost as well * So, when a firm makes zero economic profit, it may still be making accounting profits A interchange in have in the Short Run and Long Run * Because firms can enter and exit more easily in the long run than in the short run, the long-run supply curve is typically more elastic than the short-run supply curve Chapter 15 Monopoly Why Monopolies Arise.* Firm is monopoly if it is furbish up seller of its product and if its product has no close substitutes * Case of monopol y is barriers to entry a monopoly remains only seller in a market because other firms cannot enter market and compete with it * Barriers to entry are monopoly resources, government-created monopolies, and natural monopolies Monopoly Resources.* Single firm owns a key resource * i. e. only one well in town and no way to get water from anywhere else * Rarely occurs because economies are large and resourced own by many people Government-Created Monopolies * Government gives one person or firm exclusive right(a) to sell good or service * Two important examples are patent and copyright laws * some(prenominal) lead to higher prices than under contest, but encourage desirable behaviour * Drug companies allowed patents to encourage research, and authors allowed copyrights so they write more original books * Monopoly = increased incentive for creative activity, but at a higher cost Natural Monopolies.* Single firm can supply good or service to inviolate market at lower cost than could 2 or more firms * Occurs when firm has economies of scale over relevant range of output * In other words, firms ATC curve continually declines because when production is divided among more firms, all(prenominal) firm produces less, and ATC rises single firm can produce as smallest cost * i. e. to provide water to town, firm must build network of water pipes if two firms involved, both would have to wages fixed cost of water pipe, resulting in increased ATC.* Natural monopoly = less concern intimately stark naked entrants * Normal monopolys profits attract entrants to market, but in a natural monopoly, new entrants cannot achieve same low costs that monopoliser enjoys * If a market expands (greater demand) natural monopoly can gain into competitive market Monopoly vs. contender.* Monopoly can influence market price of output, while competitive firm cannot * As monopoly is sole maker in market, it can alter price of good by adjusting supply to market * contend curve for compe titive market is perfectly elastic (can sell as little or as much as it wants at one price), while down-ward sloping for monopoly * ? monopoly has to accept lower price to sell more output, and can only accept higher price by selling less output so what price and quantity will it choose to maximize profits? Monopolys revenue * AR = price of good (true for monopoly and competitive), but MR is not equal to price of good.* As a result, average-revenue curve is also monopolists demand curve * When monopolist increases quantity sold, has two effects on total revenue (P x Q) 1) the output effect = more output sold, so Q is higher, which trends to increase total revenue 2) the price effect = price falls, so P is lower, which tends to decrease total revenue * Competitive firm as no price effects price taker, therefore can sell as little or as much as it wants, without any change in price * ? rig/price effect causes monopolists MR after first unit sold to ceaselessly be less than price o f the good * Consequently, monopolys marginal-revenue curve perpetually lies below its demand curve Profit Maximization * Profit-maximizing quantity of output as determined by hybridizing of MR and MC curve * Some key differences between monopolies and competitive firms * P = MR = MC (competitive).* P MR = MC * In competitive markets, price equals marginal cost, and in monopolized markets, price exceeds marginal cost crucial to understanding the mixer cost of monopoly Monopolys Profits * Recall, Profit = TR TC * Alternatively, Profit = (TR/Q TC/Q) x Q * Which means, Profit = (P ATC) x Q * selfsame(prenominal) as in competitive markets Monopoly Drugs vs. Generic Drugs * What happens to price of a drug with patent runs out? * Monopoly firm maximizes profit by producing quantity at which MR = MC, and charging price well above MC * Therefore, when patent runs out, the price of the good falls to MC * Note MC for drugs is almost always constant.* Monopolist does not lose all mark et, however, because many buyers remain loyal to brand-name, and therefore, brand-name can still sell at slightly higher price than generic brands Welfare Cost of Monopoly * Monopolies = higher prices than competitive firms = undesirable for consumers = desirable for producers in terms of total revenue * Is it possible that monopoly is desirable from the standpoint of society as a whole?* Recall total tautologic measures well-being of buyers and sellers in a market * pass waterr scanty is amount producers grow for a good (minus) their costs of producing it * Consumer additional is consumers willingness to put up for a good amount they actually pay for it * In this case, single producer is monopolist The Deadweight Loss * Consider case of a benevolent social deviser.* neighborly planner care not only about profit earned by firms owners, but also benefits received by the firms consumers * Planner tries to maximize total surplus, which is producer surplus (profit) plus consum er surplus * Alternatively, value of good to consumers costs of making the good to monopoly producer * Demand curve reflects value of good to consumers *.Marginal cost curve reflects cost to the monopolist * Consequently, the socially efficient quantity is found were the demand curve and marginal-cost curve intersect * If social planner were running the monopoly, he would achieve efficient progeny by charging the price found at the intersection of demand curve (AR-curve) and the MC curve much like a competitive market * However, monopolists bear down the price found at the intersection of the MC and MR curve * ?the monopolist produces less than the socially efficient quantity of output, and recoils more than the socially efficient price * When the monopolist focusings a price higher than the marginal cost, some potential consumers value the good higher than the MC but lower than the monopolists price * Consumers do not buy the good, and monopoly pricing prevents mutually benef icial trade * The deadweight loss triplicity = total surplus lost = reduction in economic well-being from monopoly Is Deadweight Loss a Social Problem?* Not necessarily a problem for society * Welfare in monopolized market includes social eudaimonia or both consumers and producers * When a consumer pays extra dollar to producer because of monopoly price, consumer is worse off by a dollar, and producer is damp off by same amount * Transfer from consumer to producer does not affect total surplussum of consumer and producer surplus * Unless, consumers are for some reason more deserving than producersa normative judgement about equity that goes beyond realm of economic efficiency.* Problem arises because firm produces and sells a quantity of output below the level that maximizes total surplus Price Discrimination * employment practice of selling the same good at different prices to different consumers * Can occur in a monopoly (firm with market power), not in a competitive market * In competitive market, many firms selling same good at market priceno one would lower market price for any customer as they can sell any given quantity at one price * Increasing price would also be pointless, as customer would simply buy from another firm A Parable about Pricing.* Dry-cleaning example from class dash adults $10 and charge students $5 with a stdent card * Choosing to forgo market of students at $5 results in deadweight loss because students do not end up putting their shirts into dry-cleaning, though they value the service more than its MC of production * With price-discrimination, however, everyone ends up with a shirt .* Price discrimination can eliminate the inefficiency inherent in monopoly pricing, because differentiating prices allows producer to charge customer price closer to customers willingness to pay than is possible with a single price Notes about Price-Discrimination * Monopolist must be able to separate customers according to willingness to pay any geographically, by age, by income etc.* Arbitrage prevents price-discrimination process of buying good in one market at a low price and selling it in another market for a higher price * Increased welfare from price-discrimination is all higher producer surplus, not consumer surplus * Adults/students no better off from having cleaned shirtspaid price they were willing to pay * Entire increase in total surplus is a result of higher profits for the monopolist The Analytics of Price Discrimination.Perfect price discrimination = situation in which a monopolist knows exactly the willingness to pay of each customer and can charge each customer different prices accordingly * Monopolist gets the enter surplus in every transaction * Also sometimes referred to as first-degree price discrimination * Refer to diagrams (a) and (b).* (a) firm charges single price above MC, and b/c some potential customer who values good at more than MC does not buy it at this high price, monopoly causes deadweig ht loss * (b) each customer who values good at more than MC buys good and is charged willingness to pay mutually beneficial trade takes place, no deadweight loss, and entire surplus derived from market goes to monopoly producer in form of profit * Of course, in real life, price discrimination is never perfect because various customers are willing to pay various different prices two forms of imperfect price discrimination .* 1) second-degree price discrimination = charging different prices to same customer depending on quantity of product bought * 2) third-degree price discrimination = market can be segmented and segments have different elasticities of demand * i. e. movie theatres charge lower price for children and senior citizens than for other patrons * Makes little sense in a competitive market, where price = MC, and MC for providing seat to child/senior citizen is same as anyone else.* If movie theatre has local monopoly, however, price-discrimination has motives * Demand cur ve for adults is less elastic, therefore can charge higher price, whereas demand curve for children/seniors is more elastic, therefore can charge lower price * How does imperfect price discrimination affect welfare?* Compared to monopoly outcome with single price, imperfect price discrimination can raise, lower, or leave unchanged total surplus in a markethowever, always raises monopolys profits Examples of Price Discrimination * Airline Prices charge less if stay over Saturday night or purchase two weeks ahead to separate personalised travellers, from business travellers, who pay more * Discount Coupons rich, busy executive will not clip coupons, whereas a unemployed individual will, allowing price discrimination * Financial Aid separate wealthy students willing to pay high tuition from less well-off students * Quantity Discounts bulk is cheaper because customers willingness to pay for an additional unit declines as the customer buys more units existence Policy towards Monopo lies.* Monopolies fail to allocate resources efficiently * Produce less than socially desirable quantity of output * Charge prices above marginal cost Policymakers Response * Increasing challenger with Competition Law for example, mergers * Regulation natural monopolies not allowed charging whatever price they want, but what price should government set of a natural monopoly? * One might conclude set P = MC, so customers equal quantity of output that maximizes total surplus, and allocation of resources is efficient * However, natural monopolies always have declining ATC ?MC ATC, if P = MC, then P ATC, and firm loses money and exits industry * Government can subsidize monopolist and pick up losses inherent to MC-pricing, but would need to raise money through and through taxation for subsidy, and taxes have own deadweight loss * Alternatively, regulators can allow monopolist to charge price higher than MC, and if regulated P equals ATC, monopolist earns exactly zero economic profi t * Yet, average-cost pricing leads to deadweight losses b/c monopolists price no longer reflects MC or producing good * Ultimate problem with MC- and AC-pricing is it gives monopolist no incentive to reduce costsnormally reduce costs to increase profits, but in these cases, monopolist will not benefit * Solution keep some benefits from lower costs in form of higher profit, and practice something that is a small departure from MC-pricing.* Public Ownershipgovernment owns natural monopoly instead of private firm * Doing Nothingdegree of market stroke in economy smaller than political failure in govt Differences and Similarities Competition Monopoly Similarities Goal of firms increase profits Maximize profits Rule for maximizing MR = MC MR = MC Can earn economic profits in short run? Yes Yes Differences Number of Firms Many One Marginal Revenue MR = P MR P Price P = MC P MC Produces welfare-maximizing level of output? Yes No Entry in long run? Yes No Can earn economic profits in long run? No Yes Price discrimination possible? No Yes Chapter 16 Monopolistic Competition.* Oligopoly market construction in which only a few sellers offer mistakable or identical products * Concent symmetryn ratio percentage of total output in market supplied by four largest firms * Monopolistic competition market structure in which many firms sell products that are similar but not identical by-line qualities * Many sellers ? firms competing for same group of customers.* Product differentiation ? downward-sloping demand curve * Free entry and exit ? market adjusts until economic profits driven to zero Monopolistically Competitive Firm in the Short Run * Products are different ? faces downward-sloping demand curve * Same profit maximization rule as monopoly (Q at MR = MC and equivalent P on demand curve) * Identical to monopoly The Long Run Equilibrium.* When firms make profit in the short-run, new firm have incentive to enter the market * Demand curve shifts to left (reduce s demand of each individual firm) * As demand for firms fall, firms experience declining profit * Conversely, when firms set out losses in short-run, firms exit * Demand curves shift to right (demand experienced by individual firms increases) * As demand for firms products rises, firms experience rising profit.* Entry/exit continues until firms in market make zero economic profit (P = ATC) * Demand curve is tangent to ATC (just touching, never crossing) * Characteristics of long-run equilibrium in monopolistic competition * As in monopoly market, P MC (for profit maximization, MR = MC, and downward-sloping demand curve makes MR P) * As in competitive market, P = ATC (free entry and exit drive economic profit to 0) Monopolistic vs. Perfect Competition Excess Capacity.* Entry and exit drive each firm in monopolistically competitive market to point of tangency between demand and ATC curves * However, this means quantity produced is less than that produced at the efficient scale quan tity that minimizes ATC (point at which MC intersects with ATC) * Perfectly competitive firms produce at the efficient scale * Monopolistically competitive firms therefore have excess capacitythey are not producing as much as they potentially can * Firm forgoes opportunity to produce more because it would need to cut prices to sell the additional output * more profitable to continue operating at excess capacity Markup over Marginal Cost.* Relationship between Price and Marginal Cost also different * Competitive firm, P = MC * Monopolistic competition, P MC, because it must be for P = ATC * This leads to behavioural differences b/w perfect and monopolistic competitors * Perfectly competitive firm does not care for additional customers because P = MC, profit from extra unit sold is always zero * By contrast, monopolistically competitive firms P MC, therefore, extra units sold = more profit Monopolistic Competition and Welfare of Society * One source of inefficiency is that P MC * Some consumers who value good at more than MC, but less than P will not buy the good * ? deadweight loss similar to that of monopoly pricing * Another source of inefficiency is1) Product-variety outwardness b/c consumers get some consumer surplus from opening of new product, entry of new firm conveys +ve externality on consumers 2) Business-stealing externality b/c other firms lose customers and profits from entry of a new competitor, entry of new firm imposes negative externality on existing firms * Perfectly competitive firms produce identical goods and charge P = MC, therefore uncomplete externality exists under perfect competition * ?Monopolistically competitive markets do not have desirable welfare properties of perfectly competitive markets because it is not ensured that total surplus is maximized * Also very difficult to control these inefficiencies through public policy Advertising *Amount of advertising depends on products * Firm that sells highly differentiated consumer goods i. e.soft drinks, will need to advertise more than seller of undifferentiated industrial nails, or homogenous products like straw * Some people critique advertising for convincing people that products are more different than they actually are, fostering brand loyalty and encouraging consumers to ignore price differences * With less elastic demand curve, firm charges larger markup over MC.* Support for brands suggests that brands provide consumers with information about quality of goods, and gives firms incentive to maintain high quality to protect reputation of brand names * Others believe encourages competition as it makes customers better cognizant about products * Advertising can signal quality of product as well, because firm willing to decease money on advertising must be creating a good product.